For more information about Vanguard funds, visit vanguard.com or call 877-662-7447 to obtain a prospectus or, if available, a summary prospectus. Investment objectives, risks, charges, expenses, and other important information about a fund are contained in the prospectus; read and consider it carefully before investing.

Vanguard ETF Shares are not redeemable with the issuing Fund other than in very large aggregations worth millions of dollars. Instead, investors must buy and sell Vanguard ETF Shares in the secondary market and hold those shares in a brokerage account. In doing so, the investor may incur brokerage commissions and may pay more than net asset value when buying and receive less than net asset value when selling.

Investments in bond funds are subject to interest rate, credit, and inflation risk.

Diversification does not ensure a profit or protect against a loss.

Investments in stocks or bonds issued by non-U.S. companies are subject to risks including country/regional risk and currency risk. Stocks of companies based in emerging markets are subject to national and regional political and economic risks and to the risk of currency fluctuations. These risks are especially high in emerging markets.

All investing is subject to risk, including the possible loss of the money you invest.

“US stocks outperformed bonds by 2.2% a year over the last 40. How much outperformance has come since 2009? All of it.”

Investment researcher Meb Faber was the source. I grappled with the idea that stocks (the preferred long-term investment in most portfolios) had failed to outperform bonds (the preferred short-term investment) for most of the last four decades. And then Faber dashed off a second tweet:

“Not cherry picking: Other periods of no outperformance for stocks include 20 years (1929-1949) and 72 years (1800-1871).”

Perspectives on the long term

“Long term” can be a slippery concept. Is it ten years? Thirty? Or the 72 years between the presidencies of John Adams and Ulysses S. Grant? I considered the question from three perspectives—empirical, theoretical, and philosophical.

Empirical perspective

The 19th-century stock market data are interesting, but they’re spotty compared with the more comprehensive and extensively researched data on U.S. stock market returns since 1926. The table below shows how often U.S. stocks have outperformed U.S. bonds in the rolling 10-, 20-, and 30-year periods since 1926.

The first 10-year period, for example, begins January 1, 1926, and ends December 31, 1935. The second 10-year period begins February 1, 1926, and so on through May 2017. The analysis is based on total returns, including reinvested dividends, and not simply stock price changes, which may explain why the numbers don’t agree with those in Faber’s bone-chilling tweet.

Source: Vanguard calculations based on index provider data.[1]

The empirical message is what we’d expect. Stocks have returned more than bonds over most long-term periods, but not always. The stock market’s longest shortfall stretched almost 23 years, from September 1927 to June 1950, from the eve of the Great Depression to the post–World War II boom. The tail end of the 2008–2009 financial crisis marked another 20-year-plus period of stock market underperformance.

Theoretical perspective

Finance theory assumes that we avoid risk and demand a reward if we do take it on. Stocks are riskier than bonds, a reality reflected in their greater price volatility. That risk is a feature, not a bug.

A stock investor’s claim on a company’s resources is secondary to that of creditors such as banks and bondholders. But once creditor claims have been paid, stock investors are entitled to most of what remains. This difference helps explain why stocks produce greater gains in the good times, but deeper losses in the bad.

Philosophical perspective

Empiricism and theory get us only so far. They can’t subdue the doubt and fear provoked by a disturbing tweet. What if today is the start of another Adams-Grant period of underperformance? (We consider that a low probability.)

“My own total portfolio is about 50/50 indexed stocks and short/intermediate bond indexes. At my age of 88, I’m comfortable with that allocation. But I confess that half of the time I worry that I have too much in equities, and the other half that I don’t have enough. Finally, we’re all just human beings operating in a fog of ignorance and relying on our common sense to establish our asset allocation.”

If you like your philosophy in tweet-sized bites, consider the financial wisdom of another distinguished Philadelphian.

More than 250 years ago, Benjamin Franklin wrote The Way to Wealth, a reminder that opportunity is not without challenge and risk. The most famous line from Franklin’s essay? “There are no gains without pains.”

I would like to thank my colleague Nicholas Merckling for his contributions to this blog.

[1] For U.S. stock market returns, we use the Standard & Poor’s 90 from 1926 to March 3, 1957; the Standard & Poor’s 500 Index from March 4, 1957, to 1974; the Wilshire 5000 Index from 1975 to April 22, 2005; and the MSCI US Broad Market Index through June 2, 2013; CRSP US Total Market Index thereafter. For U.S. bond market returns, we use the Standard & Poor’s High Grade Corporate Index from 1926 to 1968, the Citigroup High Grade Index from 1969 to 1972, the Lehman U.S. Long Credit Aa Index from 1973 to 1975, and the Barclays Capital U.S. Aggregate Bond Index thereafter.

Notes:

All investing is subject to risk, including the possible loss of the money you invest.

Investments in bonds are subject to interest rate, credit, and inflation risk.

Andy Clarke

Andy is a senior investment strategist in Vanguard Investment Strategy Group. Before joining Vanguard in 1997, he worked at Morningstar. During his tenure at Vanguard, Andy wrote "Wealth of Experience," an introduction to investing based on ordinary people's stories about what has—and hasn't—worked as they've tried to meet their financial goals. Andy holds a B.A. from Haverford College and an M.S. from West Chester University. He is a CFA® charterholder.

Comments

Doug M. | July 18, 2017 9:09 am

Love your quote from Mr. Bogle that with a 50/50 allocation about 1/2 the time he’s concerned he has too much in equities and the other 1/2 of the time he’s concerned he doesn’t have enough in equities.

Makes you wonder when do you get to stop being concerned about how much you have in equities in your portfolio.

T K S. | July 14, 2017 5:39 am

It’s really worth reading. The other side meaning of the above article is, one should not remain invested in a single asset class; be it equity or debt. The investor should allocate his/her funds across all possible asset classes so that there shall be a better prospect and possibility of getting return in totality. Secondly, the investor should create a flow of investment rather putting all money at a time and watch for returns, Better to go for averaging out the investment in a regular basis; be it monthly, quarterly, half yearly, yearly or once in two years.

In my view, ” Investment is not a one time activity, it should be done continuously with regular intervals”.

Don L. | July 13, 2017 2:27 pm

I have three comments to offer:
1. We’ve experienced a 30-year bull bond market commencing when LT Treasury bonds were yielding near 15% in the mid-80s, which helps explain why the equity premium has been so modest in recent decades.
2. As Andy Clarke indicates, bonds have a fixed, but prior, claim to a firm’s cash flows while stocks have a residual claim, which means that dividends aren’t paid until the bondholders’ claims are fully met, but also that all cash flows above required interest payments belong to the shareholders which further suggests that shareholders have both a riskier, subordinate position among a firm’s suppliers of capital but virtually unlimited upside potential. That’s why there’s an equity risk premium which correlates to higher stock returns.
3. Are stocks riskier the longer you hold them? Is there a kind of “time diversification” where longer holding periods enable longer-lived bull markets to offset bear markets? Advisors use charts like the one above that show that stocks are more likely to outperform bonds as the holding period is increased. But many financial economists say stocks DO get riskier as periods lengthen and option premiums verify this. Many war-torn countries have seen stock values decline to zero and all firms are recapitalized. Are U.S. capital markets indicative of (very) long-term stock performance, or are they an anomaly?

Rob H. | July 13, 2017 1:59 pm

This is an interesting exercise but how relevant is 19th century or early 20th century market data to the capital markets of today? The economy is so different, the market participants are so different, there is no gold standard, capital flows across borders more freely, etc. In the last 80 years the market weathered a world war, the Great Depression and the Great Recession and ten plus years of inflation in the 70’s and early 80’s. So it is hard for me to draw a conclusion that stocks are better than bonds from data with so many variables affecting it that are not relevant today. But, stocks are riskier than bonds for the reasons stated by Vanguard, so the duty of the prudent investor is to be sure that equity risk is correctly priced into the market price of the stock.

Ron N. | July 19, 2017 10:47 am

History is always interesting. I heard someone once say “It’s O.K. to look at the past, just don’t stare at it”. It is true, Rob, how much is relevant in today’s world. When in history has the Federal reserve owned so much in Bonds ( 4 trillion), when has the U.S. government had this much debt ( 20 trillion), when has there been such a large trade deficit? How do you determine the correct price of today’s equities or bonds? Bonds yields and prices have been manipulated by the government and has effected both equities and bonds. What effect will the next 10 or 20 years have on Bonds vs. Stocks debate? Interesting, but who knows? The past information is only a guess at what the future holds. That’s why I stay with Vanguards philosophy. Pick your risk level, rebalance on a regular bases, stay the course. I am retired now and it has worked to this point.

Ted S. | July 13, 2017 11:00 am

I think that an investor’s concept of “long term” versus short-term or intermediate term should be the time when they expect to make a major expenditure. There may be several such periods, such as the time to purchasing a house, the time to financing children’s educations, and, ultimately, the time to possibly moving into an eldercare facility requiring a large “up front” deposit or the equivalent.

In planning for these expenditures, most investors don’t have the luxury of being able to wait 20 or 30 years (or even 10 years) for a big drop in the stock market to (presumably) correct itself. Unless they have sufficient assets to live off of their earnings (if any) and bonds alone (as John Bogle doubtless does in opting for a 50/50 stock/bond allocation at age 88) they had better recognize the risks involved in investing too much in stocks.

Vanguard’s 529 College Savings Plan offers a good example of prudence in planning for a large expenditure in the not-too-distant future. Assuming that the money will be needed when the child turns 18, the “moderate” option starts at infancy with a 90% stock/10% bond allocation, changing to 50%/50% by age 9, and to 25% cash/75% bonds at age 17. Investors should mentally divide their savings for other major future expenditures into “baskets” and adopt allocations for each that shift to cash and shorter term bonds as the time for the expenditure approaches.

Harlan C. | July 13, 2017 7:04 am

This is a well-written and sensible answer to the perpetual and constantly repeated sky-is-falling pessimism from the permabears like Faber. Doom-and-gloom have made him and his ilk rich and famous, but “Where are the customers’ yachts?.”

It is interesting that one can find 20-year periods where stocks have been a poor investment even in the recent past (and no one can argue that 20 years is NOT a long-term period), but investors need to be reminded that these periods (1) are carefully selected almost by month from the universe of possible periods, and (2) do not represent investors’ results, since no one commits his entire stake on day one of the period and then sits passively for 20 years without adding to or subtracting from his investment. Since no one can know the future, it is only sensible to assume that history will be repeated. As the chart shows, stocks have historically been the best investment available to the general public for many years. Thanks, Vanguard.

John D. | July 13, 2017 8:08 pm

Harlan C: “but investors need to be reminded that these periods (1) are carefully selected almost by month from the universe of possible periods, and (2) do not represent investors’ results, since no one commits his entire stake on day one of the period and then sits passively for 20 years without adding to or subtracting from his investment. ”

Very important points. Furthermore, even if someone did commit his entire stake on day 1, it is highly unlikely that he would withdraw his entire stake at exactly the low point in 2009. So any paper losses or shortfalls relative to bonds which such a person would incur would be limited by the amounts which were withdrawn prior to the more than full recovery from 2009 to 2017.

Ted S. | July 16, 2017 1:24 pm

Almost all historical analysis of returns on stocks and other asset classes is done on a calendar year basis, particularly the 89 calendar years of 1928 through 2016. Even disregarding the Depression years, that data indicates stock market drops of 40% in 1973-1974, 42% IN 2000-2002, and 36% in 2008. “Cherry picking” by month indicates even larger drops, particularly the 52% drop between October, 2007 and March, 2009.

Sure, hardly anybody would have been so unlucky as to invest all of their money into stocks at a peak and sell all of them at a trough. But psychology matters, especially for people who are (unrealistically) expecting stocks to return something like 8% per year to finance their future spending. These people regard the peak value of their assets as “their rightful earnings,” and regard any major decline from that as a financial disaster over which they will lose considerable sleep, and in many cases will sell stocks at close to the worst time.

That is why people should not own more stocks than they could afford to hold if the stocks dropped by as much as 50% again and did not recover for 10 years or more. That may require having cash and short term bonds to sell to meet expenses while waiting for stocks to (hopefully) recover. Unfortunately, too many “experts” giving financial advice are too young and financially secure to appreciate the psychological and financial risk associated with having too great a dependence on stocks.

Geoffrey G. | July 27, 2017 12:59 pm

Dear Harlan C.,

The article quoted tweets by Mebane Faber, CIO of Cambrian Investment, who is no permabear. I believe you are referring to Marc Faber, of the Doom and Gloom report, the Swiss guy who, yes, is definitely a permabear. Mebane Faber is a quant who espouses: low fees, indexing, broad diversification and some dynamic active management to go along with that based on significant research. Google Cambrian Investments and you will see what I mean.

Stephen T. | July 12, 2017 8:10 pm

We have to take on more risk if we want to get rich. Very few people have become rich by investing in bonds. Most people get rich in one of five ways, through owning their own business, investing in collectibles, investing in real estate, inheriting their wealth or investing in the equity markets. Bonds don’t require very much risk, therefore they usually give back a smaller return to the investor, compared to the aforementioned. A person that invests in a diversified portfolio of stocks is taking on some risk, but not too much. Personally, I like to put my money into four different categories of funds – value, growth, blended and balanced. The balanced funds I have are of a high quality and contained enough bonds in them to help me sleep at night during the times the stock market is down or in a downward trend.

I also hold a portfolio of around 50 high quality, mostly blue chip individual stocks spread across the 10 sectors of the economy. Occasionally, a few of these holdings have paid me back more then 10 fold, also referred as a “10 bagger”. This is where the risk comes into play, One never knows which of these stocks is going to pay off in such a lucrative way. Sometimes, they even go down. There are protective measures an investor can use to protect profits or minimize losses. I have held onto some of my stocks for many years, because they have shown steady growth, pay a good dividend or in most cases do both. The long-term to me is a lifetime, not 5, 10 or 20 years.

Mike S. | July 12, 2017 6:32 pm

Yes, yes, this does speak modestly to the question, of “what is the long term”, but it invites the reader into the trap of thinking that one can take (blocks of) financial time series and regard them as repeated experiments. This is wrong-headed for multiple reasons.

For starters, let’s ponder the number of ten year periods where the German 10yr is gets to 0.6% — oops there are none but the most recent.

Isn’t kindest thing one can share with a investors is tell them to ignore the time series of price data! If you want to look at time series, why not look at the series for earnings (to get a sense of uncertainty) or of dividends (to get a sense of relative stability). The traps remain, but the analysis is more informative.

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For more information about Vanguard funds, visit vanguard.com or call 877-662-7447 to obtain a prospectus or, if available, a summary prospectus. Investment objectives, risks, charges, expenses, and other important information about a fund are contained in the prospectus; read and consider it carefully before investing.

Vanguard ETF Shares are not redeemable with the issuing Fund other than in very large aggregations worth millions of dollars. Instead, investors must buy and sell Vanguard ETF Shares in the secondary market and hold those shares in a brokerage account. In doing so, the investor may incur brokerage commissions and may pay more than net asset value when buying and receive less than net asset value when selling.

Investments in bond funds are subject to interest rate, credit, and inflation risk.

Diversification does not ensure a profit or protect against a loss.

Investments in stocks or bonds issued by non-U.S. companies are subject to risks including country/regional risk and currency risk. Stocks of companies based in emerging markets are subject to national and regional political and economic risks and to the risk of currency fluctuations. These risks are especially high in emerging markets.

All investing is subject to risk, including the possible loss of the money you invest.